Treasury Bill Yields Hit Multi-Month Lows as Flight to Duration Drives Record Demand for One-Year Paper

Kenya’s Treasury bill market continues to defy conventional market expectations, presenting a paradoxical situation where even as yields fall to their lowest levels in months, investor demand shows no sign of cooling. In fact, appetite for government short-term securities has intensified, with the 364-day paper emerging as the clear favourite among institutional investors, high-net-worth individuals, and fund managers seeking to position their portfolios ahead of anticipated further monetary policy easing.

The sustained decline in Treasury bill yields represents a significant shift in Kenya’s money market dynamics and has profound implications for government borrowing costs, monetary policy transmission, investor behavior, and the broader financial sector. This trend reflects a complex interplay of factors including Central Bank policy decisions, inflation dynamics, liquidity conditions in the banking sector, and investor expectations about the future direction of interest rates.

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Latest Auction Results: Yields Continue Downward Trajectory

In the most recent auction conducted by the Central Bank of Kenya, the one-year Treasury bill closed at 9.58 percent, representing a decline from 9.71 percent recorded just a week earlier, according to data published in the Business Daily. This 13-basis-point drop in a single week illustrates the speed at which yields are compressing as investors compete aggressively for available paper.

The shorter-maturity instruments have followed a similar downward path. The 182-day Treasury bill eased to 8.11 percent, while the 91-day instrument slipped to 8.01 percent, creating a positively sloped yield curve where longer maturities command higher yields than shorter ones. This yield curve shape is typical in normal market conditions and reflects investors’ expectations that economic conditions will remain relatively stable in the near term.

The current yield levels represent a dramatic change from the environment that prevailed just a few months ago when Treasury bill rates were hovering in the mid-to-high teens. The decline reflects multiple factors including moderating inflation that has reduced the real cost of holding fixed-income securities, improved liquidity in the banking system that has given financial institutions more funds to deploy, and most importantly, the Central Bank’s explicit monetary policy shift toward lower interest rates.

Central Bank Rate Cut: The Catalyst for Yield Compression

The decline in Treasury bill yields follows directly from the Central Bank of Kenya’s decision last month to cut its benchmark Central Bank Rate (CBR) to 9.5 percent, a significant reduction from the elevated levels maintained throughout much of 2024 when inflation was running hot and the bank was focused on price stability above all else. This rate cut reinforced market expectations of a sustained low-interest environment and signaled the monetary policy committee’s confidence that inflation has been brought under control.

The Central Bank Rate serves as the anchor for short-term interest rates throughout the financial system. When the CBR falls, commercial bank lending rates, deposit rates, interbank rates, and yields on government securities all tend to adjust downward in response. The mechanism works through multiple channels: lower CBR reduces the cost at which commercial banks can borrow from the Central Bank, encouraging them to lower their own lending and deposit rates; it signals the Central Bank’s assessment that economic conditions warrant easier monetary policy; and it influences expectations about the future path of interest rates.

By cutting the CBR to 9.5 percent, the Central Bank effectively established a floor below which Treasury bill yields are unlikely to fall significantly, since no rational investor would accept yields substantially below the risk-free rate established by the central bank. The fact that the 364-day Treasury bill now yields just 8 basis points above the CBR reflects the tight relationship between monetary policy and government securities pricing.

Unprecedented Investor Demand: The Flight to Duration

Yet rather than retreating in the face of falling yields, investors have rushed into the Treasury bill market with remarkable enthusiasm. A recent sale of 364-day bills drew bids worth Ksh23.1 billion against an offer of just Ksh10 billion, producing an extraordinary oversubscription rate of 231 percent, according to reports in The Star newspaper. This means that for every shilling of Treasury bills the government offered to sell, investors submitted bids for more than Ksh2.31, demonstrating voracious appetite that far exceeded supply.

This oversubscription phenomenon is particularly noteworthy because it occurred despite yields being at multi-month lows. Under normal circumstances, falling yields would be expected to dampen investor enthusiasm as the returns become less attractive. The fact that demand has intensified rather than weakened reveals important insights about investor psychology and market expectations.

Market analysts interpret the surge in demand as a classic “flight to duration”—a market dynamic where investors shift their portfolios toward longer-dated securities to lock in current yields before they decline further. With further monetary easing widely anticipated based on the Central Bank’s recent statements and the broader trend of declining inflation, institutions and high-net-worth individuals are racing to secure yields on longer-dated paper before rates fall even lower.

The logic is straightforward: if an investor believes that one-year Treasury bills yielding 9.58 percent today will be yielding only 8.5 percent or lower in a few months, it makes sense to purchase today’s higher-yielding paper and lock in that return for the full year. This creates a self-reinforcing dynamic where expectations of falling rates drive demand for existing higher-yielding paper, which in turn pushes yields down, confirming the original expectation.

Institutional Positioning and Portfolio Strategy

The flight to duration is particularly pronounced among institutional investors such as pension funds, insurance companies, and asset management firms that manage large pools of capital and must balance yield requirements against risk constraints. These institutions face several considerations that make the current Treasury bill market attractive despite falling yields.

First, pension funds have long-term liability obligations to their members and need to generate returns that will fund future retirement payments. With equities experiencing volatility and alternative investments carrying various risks, government securities offer a rare combination of safety and reasonable returns. Even at 9.58 percent, the one-year Treasury bill provides a real return significantly above inflation, which has moderated to single digits.

Second, insurance companies must maintain substantial portions of their assets in liquid, low-risk securities to meet regulatory requirements and ensure they can pay claims when they arise. Treasury bills perfectly fit this profile, offering the full backing of the government while providing daily liquidity through active secondary markets.

Third, money market funds that cater to retail and corporate investors seeking short-term savings vehicles need to offer competitive returns while maintaining capital preservation. Treasury bills form the core holdings of most money market funds, and fund managers are competing to accumulate the highest-yielding paper available to boost their funds’ net asset values and attract new investors.

Fiscal Benefits: Lower Debt Servicing Costs for Treasury

For the National Treasury, the trend of falling Treasury bill yields represents welcome relief at a time when fiscal pressures remain acute and the government faces difficult choices about borrowing, spending, and taxation. Lower yields translate directly into reduced debt-servicing costs, improving the government’s fiscal position and creating additional space in the budget for development spending or deficit reduction.

The mathematics are straightforward: if Treasury borrows Ksh100 billion through one-year Treasury bills at 9.58 percent rather than at the 15-plus percent rates that prevailed a year ago, it saves approximately Ksh5.4 billion in interest costs over that year. Multiply this across the hundreds of billions in Treasury bills outstanding, and the savings become substantial, potentially freeing up billions of shillings that can be redirected toward education, healthcare, infrastructure, or debt reduction.

The government has leaned heavily on domestic borrowing to plug budget gaps resulting from revenue shortfalls and expenditure pressures. With external financing constrained by global financial conditions and concerns about debt sustainability, domestic debt markets have been required to absorb increasingly large volumes of government paper. The fact that this borrowing can now occur at significantly lower rates than in the recent past represents an important positive development for fiscal management.

However, the flip side of lower borrowing costs is that Kenyan savers and investors are earning lower returns on their government securities investments. Pension funds, insurance companies, and individual investors who have relied on high Treasury bill yields to generate income now face the challenge of maintaining returns in a falling rate environment. This may push some investors toward riskier assets in search of yield, potentially creating financial stability concerns if risk-taking becomes excessive.

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Market Dynamics: Supply, Demand, and Price Discovery

The Treasury bill market’s current dynamics reflect fundamental principles of supply and demand operating in a transparent, well-functioning marketplace. The government’s borrowing needs determine the supply of Treasury bills offered at each weekly auction, while investor appetite based on yield expectations, liquidity positions, and alternative investment options determines demand.

When demand substantially exceeds supply, as evidenced by the 231 percent oversubscription rate, basic economics dictates that prices must rise, which in the case of fixed-income securities means yields must fall. The Central Bank, acting as the government’s fiscal agent, conducts auctions using a competitive bidding process where investors submit bids specifying the quantity they wish to purchase and the yield they are willing to accept.

The Central Bank then accepts bids starting with those demanding the lowest yields (most favorable to the government) and works its way up the yield spectrum until the target amount is reached or until yields rise above acceptable levels. This mechanism ensures efficient price discovery where market forces determine the interest rate the government pays on its borrowing.

In the current environment of excess demand, the Central Bank has been able to be highly selective, accepting only the lowest-yielding bids and rejecting those demanding higher returns. This has created a virtuous cycle for the government where strong demand allows it to borrow cheaply, which improves its fiscal position, which in turn enhances its creditworthiness and supports continued strong demand.

Inflation Context: Real Returns Remain Attractive

A critical factor supporting continued investor demand for Treasury bills despite falling nominal yields is the inflation context. Kenya’s inflation rate has moderated significantly from the elevated levels experienced in 2023 and early 2024, dropping into single digits and hovering in the comfortable mid-single-digit range that central banks typically target.

With headline inflation running at approximately 3-4 percent according to recent Kenya National Bureau of Statistics data, the real return (nominal yield minus inflation) on the 364-day Treasury bill remains solidly positive at around 5-6 percentage points. This real return is attractive by historical standards and compares favorably to real returns available in many other asset classes or in peer economies across the region.

Real returns are what ultimately matter to investors because they represent the actual purchasing power gain from holding an investment. A nominal yield of 9.58 percent in an environment of 3 percent inflation is substantially more attractive than a nominal yield of 15 percent in an environment of 12 percent inflation, even though the latter appears higher in absolute terms.

The combination of moderating inflation and falling nominal yields has actually improved real returns compared to the high-inflation, high-nominal-rate environment of recent years. This helps explain why investor demand has remained robust despite the decline in nominal yields—investors recognize that they are still earning healthy real returns with minimal risk.

Currency Stability and External Factors

Another factor supporting the Treasury bill market is the relative stability of the Kenyan shilling, which has steadied considerably after experiencing significant depreciation pressures in previous years. Currency stability is crucial for the government securities market because it affects both domestic and foreign investor confidence and influences monetary policy decisions.

When the currency is stable, the Central Bank has more flexibility to ease monetary policy without triggering capital flight or renewed depreciation pressures. Investors, particularly foreign participants in the market, are more willing to hold local currency assets when they have confidence that exchange rate movements won’t erode their returns. This creates a positive feedback loop where currency stability enables lower interest rates, which reduce government borrowing costs and fiscal pressures, which in turn supports currency stability.

The shilling’s stability has been supported by several factors including improved foreign exchange inflows from exports, remittances, and tourism; prudent management of external debt obligations; gradual rebuilding of foreign exchange reserves; and appropriate monetary policy that has balanced growth objectives against external stability concerns.

Looking ahead, maintaining currency stability will be essential for sustaining the favorable dynamics currently observed in the Treasury bill market. Any significant shilling depreciation could force the Central Bank to raise interest rates to defend the currency, which would push Treasury bill yields higher and potentially disrupt the government’s borrowing strategy.

Secondary Market Activity and Liquidity

The Treasury bill market’s attractiveness is enhanced by the existence of active secondary markets where investors can buy and sell previously issued bills before they mature. This secondary market liquidity is crucial because it allows investors to adjust their positions in response to changing circumstances without having to hold bills all the way to maturity.

Commercial banks, investment banks, and the Central Bank itself facilitate secondary market trading, providing bid and ask quotes for Treasury bills of various maturities. This ensures that an investor who purchases a one-year Treasury bill but needs access to cash after six months can sell the bill in the secondary market, typically at prices that reflect current market yields.

The high level of primary market demand for Treasury bills tends to support secondary market liquidity as well, since more active primary issuance creates a larger pool of outstanding bills that can be traded. This liquidity premium—the value investors place on being able to exit positions when needed—helps maintain demand for Treasury bills even as yields decline.

Comparative Regional Context

Kenya’s Treasury bill market dynamics can be better understood when viewed in a regional context. Compared to neighboring East African countries, Kenya maintains the most developed and liquid government securities market, with transparent auction processes, active secondary trading, and a diverse investor base.

Uganda and Tanzania also conduct regular Treasury bill auctions, but their markets are smaller and less liquid than Kenya’s. Rwanda has been developing its domestic debt market but still relies heavily on external financing. The relative sophistication of Kenya’s market makes it a regional benchmark and attracts interest from institutional investors across East Africa.

When compared to yields available on short-term government securities in Uganda, Tanzania, and Rwanda, Kenya’s current rates remain competitive while offering the advantage of superior market liquidity and infrastructure. This regional comparison supports continued demand from both domestic and regional investors.

Future Outlook: Sustainability of Current Dynamics

The critical question facing market participants is how long the current equilibrium of falling yields and strong demand can persist. Several factors will determine the trajectory from here.

First, inflation trends will be paramount. If inflation remains well-controlled in the 3-5 percent range, the Central Bank will have scope to maintain or even ease monetary policy further, which would support continued yield compression. However, if inflation begins to accelerate due to external shocks, currency depreciation, or domestic demand pressures, the Central Bank would need to reverse course and tighten policy, pushing yields higher.

Second, currency stability will be crucial. Any significant depreciation of the shilling would likely force the Central Bank to raise rates to defend the exchange rate, breaking the current dynamic of falling yields. Maintaining stability will require careful management of external accounts, foreign exchange reserves, and capital flows.

Third, the government’s borrowing needs will influence supply dynamics. If fiscal pressures intensify and the government must significantly increase its Treasury bill issuance, the additional supply could push yields higher even if underlying monetary conditions remain accommodative. Conversely, improved revenue collection or expenditure restraint that reduces borrowing needs could support further yield declines.

Fourth, global financial conditions and investor risk appetite will play a role. If global interest rates rise substantially or if risk aversion increases due to geopolitical or economic shocks, Kenyan Treasury bills might need to offer higher yields to remain competitive with alternative investments. Conversely, a prolonged period of global monetary easing could keep downward pressure on yields worldwide, including in Kenya.

Fifth, the Central Bank’s next moves will be decisive. Market participants are closely watching for signals about whether the monetary policy committee believes further rate cuts are appropriate or whether the current stance represents a neutral position that will be maintained. Forward guidance from the Central Bank can significantly influence investor expectations and positioning.

Conclusion: A Temporary Sweet Spot or New Normal?

The combination of softening rates and voracious investor demand highlights what some analysts describe as a rare sweet spot in Kenya’s money markets: investors are chasing relative value while the state enjoys cheaper funding. This alignment of interests—where both borrowers and lenders are satisfied with prevailing conditions—represents an enviable situation for policymakers.

For now, the Treasury bill auction remains a venue where Kenya’s economic anxieties momentarily quieten, as both the government and investors find terms acceptable to their respective needs and constraints. The government secures funding at rates dramatically lower than those prevailing just months ago, easing fiscal pressures and creating room for maneuver. Investors receive returns that, while lower than in recent years, still provide attractive real yields with minimal risk and high liquidity.

Whether this equilibrium represents a temporary phase or a new normal for Kenya’s money markets will become clear in coming months as inflation data, currency movements, fiscal developments, and monetary policy decisions provide additional evidence about the durability of current conditions. The Treasury bill market, with its weekly auctions and real-time price discovery, will continue to serve as a sensitive barometer of Kenya’s macroeconomic health and investor confidence.

For market participants, the message is clear: in an environment where yields are expected to fall further, duration is valuable, and acting sooner rather than later to lock in available returns may prove prudent. For the government, the opportunity to refinance expensive debt and fund new borrowing at historically low rates represents a window that should be exploited while conditions remain favorable. And for policymakers at the Central Bank, the challenge is to maintain the delicate balance between supporting economic growth through accommodative monetary policy and remaining vigilant against potential threats to price stability or currency strength.

The coming months will test whether Kenya’s money markets can sustain this favorable dynamic or whether new pressures will emerge to disrupt the current equilibrium. Whatever unfolds, the Treasury bill market will remain at the center of Kenya’s economic story, providing both financing for the government and investment opportunities for savers while serving as a real-time indicator of confidence in the country’s economic trajectory.

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By: Montel Kamau

Serrari Financial Analyst

25th November, 2025